Good morning, and welcome to the IAA Second Quarter 2020 Earnings Conference Call. All participants will be in a listen-only mode. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note, this event is being recorded. I'd now like to turn the conference over to Arif Ahmed.

Vice President, Treasury. Please go ahead..

Thanks, Keith. Good morning, everyone and thanks for joining us today for IAA’s second quarter fiscal 2020 earnings conference call. Speaking today are John Kett, Chief Executive Officer and President; Vance Johnston, our Chief Financial Officer. After John and Vance have made their formal remarks, we will open the call to questions.

Before we begin, I would like to remind you that certain comments made during this call regarding our plans, strategies, and goals and our anticipated financial performance constitute forward-looking statements and are made pursuant to and within the meaning of the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995.

Such forward-looking statements are based on management’s current assumptions and expectations and are subject to risks and uncertainties that could cause actual results to differ materially from such statements.

Those important factors are referred to in IAA’s press release issued today and in the Risk Factors section included in our Annual Report on Form 10-K for the year ended December 29, 2019 filed with the SEC on March 18, 2020 and in Form 10-Q filed with the SEC on May 06, 2020.

Forward-looking statements made today are as of the date of this call and IAA does not undertake any obligation to update those forward-looking statements. Finally, the speakers will refer to certain adjusted or non-GAAP financial measures on this call.

A reconciliation schedule of the non-GAAP financial measures to the most directly comparable GAAP measures is available in IAA’s press release issued today. A copy of today’s press release may be obtained by visiting the Investor Relations page of the website at www.iaai.com. I will now turn the call over to John.

John?.

Thanks, Arif. Good morning, and thank you all for joining our first quarter earnings call. Starting out, we would like to express our gratitude to all the essential workers for their tremendous efforts and sacrifices during the pandemic. COVID-19 has had a far-reaching effects from across the globe to our own backyard.

For our employees who have been impacted, I want to extend all of our well wishes to you and your families during this time/ This past quarter was challenging for IAA as we continue to navigate through the impact of macro headwinds.

The entire team got quickly focused on the task at hand and responded, implanting actions to ensure the safety of our employees, serve our customers, manage cost to align with the reduced volume and enhance our liquidity. I'm proud to say that we are very successful in each of these initiatives.

As we discussed at length on our last conference call, late in the first quarter we began to feel the effects of the response to the pandemic as stay-at-home orders throw significant declines in miles driven, resulting in a sharp reduction in assignments.

On that call we also noted that we've begun to see a stabilization in assignments as economies began to reopen in late April. We had anticipated that as these dynamics change, we would see an improvement in both miles driven as well as assignments.

Since our call in early May, we have seen trends improve at an even faster rate than originally anticipated. At the time of our Q1 call miles driven were down approximately 30% from pre-COVID lows.

By the end of May, this had improved to being down approximately 10% and by the end of the quarter, miles driven were essentially back at pre-COVID-19 levels.

Assignment volumes consistent with the trend miles driven were up approximately 35% from the trough by the back half of May and continued to increase gradually ending the quarter down less than 15% from pre-COVID-19 levels. Units sold bottomed out in the second half of May, an increase at a gradual pace every week for the rest of the quarter.

We have continued to see a significant increase in net revenue per unit, driven by several factors. While our move to 100% digital options and our enhanced merchandising platform including 360 view. Also noted on our Q1 call, that revenue per unit had started to see pre-COVID-19 levels.

Revenue per unit continued to increase gradually for the remainder of the quarter, reaching new record levels in the second half of the quarter.

So while revenue fell by 19% for the quarter overall versus the prior year, we are pleased with the improvement we saw in assignments, units sold and especially revenue per unit from their respective trough levels.

As it relates to profitability, adjusted EBITDA fell approximately 27% for the second quarter, driven by the overall decline in revenue for the period. As we communicated on our Q1 call, we took swift actions on the expense side, realigning expenses to current volume levels, while continuing to prudently invest to advance our strategic priorities.

This in combination with the higher revenue per unit we experienced, help mitigate the magnitude of deleverage we would normally see with a 19% revenue decline. As volume trends continue to improve, we have begun to prudently ramp back up certain costs, including labor hours at branch operations across many locations begin to normalize.

While our second quarter financial results were materially impacted by macro developing team's resiliency and focus during this time. As it relates to our margin expansion plan, as we already disclosed in early April to digital-only auctions and eliminated physical auctions in the US.

The associated cost benefits from shifting to a fully online model are flowing through our financial results as we have reduced costs associated with the physical auction from auctioneer expenses to auction day labor and other costs, revenue benefits from online fees associated with these digital sales.

Along with the financial benefits from this transition, we continue to receive very positive feedback from both buyers and sellers and our online auction platform and enhanced services like Feature Tour and IAA 360 View.

While we accelerated the timing of our digital transformation our remaining margin expansion initiatives remain on track with the original timing we communicated back in March. We're already seeing some early progress in the towing area from implementing improved route optimization in several locations.

During the quarter, we also continue to execute against our other strategic growth priorities and as a result, our second quarter benefited from our enhanced service offering for both buyers and sellers.

In May, we announced introduction of IAA Interact the industry-platform for buyers that leverages imagery, information, personalization and key tools such as 360 View, Feature Tour and Virtual Engine Start.

This merchandising platform is designed using extensive research to create greater digital trust and efficiencies for buyers, which in turn will drive increased online bidding and buying. The initial response to IAA Interact has been very positive.

During the quarter, we also enhanced our service offering globally by introducing 360 View in Canada and IAA buyer and seller portals and vision salvage management system in the UK. While still early days for many of these tools, we are pleased with the progress we're making in both our US and international markets.

We've also continued to strengthen our real estate portfolio and have taken advantage of the flexibility we now have as an independent standalone company. As an example after considering both the financial and strategic implications we recently completed two land acquisitions.

We've also expended several more branches during the quarter, providing additional capacity to support growth. With our strong cash flow, we will continue to maximize opportunities with regards to real estate, utilizing both frac purchases of land.

Our financial performance in the second quarter was better than we anticipated when we last spoke with you in early May. While we are cautiously optimistic that the worst of the COVID-19 impact is behind us, situation continues to be uncertain and evolving and we are at actively monitoring developments in the different markets.

Given the lag effect the decline in assignment it has with regards to volume, we are continuing to see an impact in units sold. So far this quarter, we've seen improvements in both assignment volumes and units sold since the end of the second quarter. Revenue per unit remains consistent with what we experienced at the end of the second quarter.

Our financial position and balance sheet remained very strong with over $540 million of liquidity, providing us with the financial flexibility to invest for the long term.

In closing I want to thank all of our teams for their continued hard work and dedication to IAA and the resiliency, adaptability, teamwork and customer focus that they've demonstrated throughout this period. IAA was recently named the 2020 Best Workplaces in Chicago and a great place to work in the US.

These certifications and recognition could not be achieved without our great people. With that, I'll turn the call over to Vance..

As John mentioned earlier, while our second quarter performance was materially impacted by COVID-19 we did see a stronger than anticipated rebound in many underlying drivers of the business and we're continuing to see stabilization and improvement in these trends.

Before I touch on our current trends, let me first review the key financial highlights of our Q2 performance. I'll focus my discussion today on our adjusted non-GAAP results and just touch on some highlights. Please see today's press release for more details on our Q2 financial performance and our methodology when calculating non-GAAP results.

For the second quarter, consolidated revenues decreased 19% to $296.8 million from $366.4 million in the second quarter of fiscal 2019. Organic revenues, which exclude the impact of our DDI acquisition as well as form currency declined 19.3% to $295.6 million.

For the quarter, volumes declined approximately 28.8%, which was partially offset by higher revenue per vehicle. As John reviewed, we have seen higher proceeds due to strong demand and more limited supply and are also seeing benefits from 360 View and our enhanced merchandising platform along with higher penetration of internet purchase.

All of these factors are driving higher revenue per vehicle. Rent consignment inventories declined by 16.6% versus the prior year primarily due to the impact of COVID-19. As noted, we did see a time as gradually improved throughout the quarter.

Looking at our geographic performance, volumes were impacted for both our US and international segments due to the impact of COVID-19 on vehicle miles traveled.

Important to also remember with regards to our international segment, we are comparing to a strong performance from last year as all revenues increased nearly 39% for the prior period, driven primarily by higher mix of purchased vehicles. Gross profit decreased to $111.7 million from $138.7 million in the second quarter of fiscal 2019.

Despite the lower volume, gross margin was only down 30 basis points in the quarter. We benefitted from both strong revenue per unit as well the completion of our buyer digital transformation and other cost reduction. SG&A expenses were $34.3 million compared to $33.7 million in the prior year.

Adjusted SG&A expenses were $32.9 an increase of 4.1% compared to $31.6 million in the prior year period.

The increase was driven by public company cost and a higher reserve for credit losses as well as cost specific to DDI which was acquired in late July 2019, partially offset by lower incentive compensation and overall cost and expense discipline as we managed through the pandemic.

Adjusted EBITDA decreased by 26.5%, $78.9 million from $107.3 million in the second quarter of fiscal 2019, primarily due to the decline in revenue. Due to the impact of foreign currency as well as EDI, organic adjusted EBITDA was $79.3 for the second quarter of fiscal 2020, a decrease of 26.1%.

The effective tax rate was 24.4% versus 27.9% in the second quarter of fiscal 2019. The second quarter of 2019 had certain discrete tax items associated with the spinoff from KAR, which adversely impacted the rate last year by 170 basis points. We also benefitted this quarter from the implementation of certain tax optimization initiatives.

Net income decreased to $33.2 million from $51.3 million in the prior year. Adjusted net income decreased to $36.6 million or $0.27 per diluted share compared to $59 million or $0.44 per diluted share in the second quarter of fiscal 2019.

Turning to our cash flow and balance sheet; capital expenditures for the quarter were $11.5 million compared to $15.9 million in the prior year. We continue to take a disciplined approach to capital spending, although we did acquire some land opportunistically.

As John mentioned, are balance sheet remains strong and for the first six months of fiscal 2020, we generated free cash flow of $195 million ending the period with a leverage ratio of 2.9 times.

We generated strong free cash flow due to the working capital benefit associated with lower assignments as well as the deferral of certain cash tax payments including state, local and provincial taxes in the US, Canada and in the UK.

Cash benefits from taxes is expected to mostly reverse in Q3 and we would expect working capital to be use of cash in the back half of the year at assignments recover. Our ending cash balance was $187 million and total liquidity was $542 million, which is more than double the level that we had at year end.

Our financial strength gives us the flexibility to manage through the COVID-19 pandemic, while continuing to invest in and execute our strategy. As noted in our earnings release given the continued uncertainty regarding COVID-19 we're not providing guidance today. However, let me share some color that may be helpful.

For to date [ph] as John said, we have seen an improvement in both assignment volumes and units sold since the end of the second quarter and revenue per unit trends have new exit rate.

While this is encouraging, it is hard to determine the duration of these elevated revenue per unit levels as we would expect that supply returns these strong revenue trends may moderate. In addition in Q3, we will also be anniversarying the price increases implemented in July 2019. With that, we'll open up the call to questions.

Operator?.

[Operator instructions] Our first question comes from Stephanie Benjamin of Trust. Please go ahead..

I wanted to touch a little bit on if you could give some color on I guess June trends, you noted that assignments were down less than 15%.

Is that from pre-COVID levels or is that year-over-year, just trying to gauge as you mentioned there are improvements going into 3Q what that ending level was for the second quarter?.

Stephanie this is Vance, yes what we mentioned on the call Stephanie 15% that related to pre-COVID levels. So that were assignments trying to sit relative to where we were before the pandemic hit us,.

And then I was hoping you could touch a little bit on the CapEx, the new yards that you acquired during the quarter.

Was this an opportunity where it's based on geographic opportunity or maybe some more color on those as well as some of your decisions to expand your real estate with existing yards?.

I think as we've talked about before any investment that we make, we're going to look at what we believe the economic returns are. When you talk about real estate, there is also a strategic element to is about where it's at, where we think we're going to need property over a longer period of time and again the relative value of the land itself.

So in a couple of situations, buying it made more sense than leasing it and then we had other decisions we made where we went ahead and leased property to expand our footprint..

Got it.

And then did you -- were these more from a geographic standpoint along the coast of the US or kind of varied across the country?.

Some were closer to the ocean than others but that really -- it was really more around as we looked at the individual markets and where we saw their growth potential for us..

Thank you. Our next question comes from Daniel Imbro with Stephens Inc..

Want to start on the strength in revenue per unit. Obviously, when the factors I saw between supply-demand, online fees, can you help parse out kind of what was the stronger of those drivers? May be help us bucket or rank order the strength of those.

And then did the strength in 2Q include any benefit from your pricing optimization that you called out in your long term plan or is that not rolling in yet?.

Vance, you can weigh in. It's only hard to parse out what drives proceeds higher, whether certainly the supply and demand we really believe that our new platform we're seeing really great engagement with buyers.

So we're attributing at least a portion of it to our own efforts, but like we always talk about with proceeds, there is a variety of factors that go into it.

There are macro factors around metal prices, used car prices, parts prices, all those things enter into what's driving the selling price at the auction and again, we believe that we've developed a platform that's going to drive higher proceeds all things considered equal. And then in terms of price optimization Vance, do you want to..

Yeah Dan just echoing to what John said that we believe that all those things are contributing, it's tough to really break out and just agreeing to figure out which is contributing more than the others although we do think that the limited supply is having an impact on proceeds and revenue per unit.

It's pricing optimization week we have and are just really kicking that off and so we have actually not part of what the impact is today..

And then squeezing over, the buyer digital transformation clearly seeing some cost savings there, can you help us think about Vance, is are we already seeing the full run rate benefits? I think when you first called it out, it was $45 million annually at the midpoint.

Are you already seeing the full run rate benefits of that as we think about modeling the back half of the year?.

Yeah so Dan, as you may recall, prior digital transformation has really -- there is really three drivers of those benefits. There is the reduction in cost from auction day cost and reducing optioning your cost and other auction day labor cost and other cost associated with the live auctions. There has been the increase in internet fees.

So going from let's say 70% of our units were sold online before to 100% now, so now 100% of those units are we're getting the internet fee for those versus 70%.

And then the third component is the implementation of banks by 360 View feature tour, things of that nature to our platform and we think that we now have a benefit on proceeds and revenue per unit. So those are all things that impacted. So first and foremost, we're now completely done and we've transitioned to complete online digital marketplace.

So in effect we're full run rate going forward. However, two of those three factors are falling independent. So the Internet fees relative to what we laid out on our previous call, the Internet fees are going to volume-driven.

So we are effectively on a run rate but we're not on the run rate that kind of laid out because that was somewhat volume dependent. Same thing with 360 View as it relates to live auction cost. We're on a full run rate there because it's not volume dependent.

Does that make sense Dan?.

That's helpful and then a last one if I can sneak it in, maybe just stepping back from the quarter, last year competition was a big focus. Market obviously you guys acknowledge that with some of the share shifts.

Can you, as you look at your offering today, how do you think with the changes you’ve made, you do network, you do stills see need for further improvement or does that a bit of higher thinking given the improvement you’ve….

No we feel very good again with the interact, we really think that we have deployed a leading platform for buying and selling vehicles since and we feel very good about that as well as the balance of our portfolio from both a buyer and a seller perspective.

What we've done with loan payoff and inspection services and our title procurement product on the seller side and then we've talked already this morning about what we're doing on the buyer side.

I think we've got a really, really good offering for both buyers and sellers that's -- and again we're getting good traction from both buyers and sellers in response to it..

Our next question comes from Bob Labick of CJS Securities..

I just wanted to, you’ve given us a lot of color already, so thank you for that.

Wanted to get a sense of how you're seeing recovery and how you are budgeting to the options to the sites and things and obviously unpresendented through July, how are you thinking about things through year-end just more generally as you turn return people back to the sites?.

So we've got pretty decent visibility in the miles driven and again our assignment volume because there is a bit of a lag, we can match up labor pretty well with assignment volumes. So yeah, as we said it's basically back to where it was in terms of miles driven and assignment volumes are coming back as well.

So yeah I mean we've got a flexible labor model that we can adjust as we need..

And then in terms of, can you give us a sense of the buyer base and how they've reacted through this in terms of international buyers? I know you probably haven’t been out prospecting as much and certainly not traveling, but who have been the primary drivers of the increase proceeds? Has it been more domestic buyers? Has it been rebuilders? Any kind of sense of the buyer base and what's happening there?.

Yeah early on it was much more domestic, early on I mean in the pandemic as we're beginning to sell vehicles, we saw more disruption from international buyer community, but the international buyers have been coming back. We've seen steady progress in growth in international activity.

So it really has been a pretty balanced response and again, we believe through our platform, we're reaching and penetrating either buyers we didn't have before or buyers that we did do business are doing more.

We've deployed a number of digital marketing tools on the buyer side to recruit and interact and engage with buyers that a lack of travel isn't really hurting our marketing efforts in that regard. So yeah it has been a pretty broad recovery in terms of the buyers..

[Operator instructions] Our next question will come from Gary Prestopino of Barrington Research..

I just want to make sure I got this right because there is a lot you gave, but you said miles driven are almost back to pre-COVID levels at this juncture right? Assignments up 35% from the trough in May, but they're only currently at are close to about 85% of pre-COVID levels right now, is that correct?.

As of the end of the quarter Gary. We also commented that since the end of the quarter that that assignment in units sold to continue to increase from there as well..

Okay. That's fine. And you said your consignment inventory was down 16.6%.

What was your total inventory down? Can you give that with the purchased vehicles or you do not make that public?.

Gary, that's something we haven’t made public previously and remember purchase volumes are a very small portion of our….

So, I understand, so do you -- a lot of this that's where you see in assignment rollup and stuff like that, could some of that be explained by the fact? I know miles driven were up, but some of that be explained by the fact that when this COVID thing was really hitting in the quarter that the insurance companies were more or less just totaling out cars without -- because they couldn’t get the adjusters out in the field to look at them?.

It's hard to say. We've often not going across the board to tell us that was a comp trend or comp….

And then in markets right, even in the areas that have been hit pretty badly with COVID..

Yeah I mean I think they're coming back..

Gary certainly from the trough if you think about the first kind of 8 to 10 weeks after the pandemic had hit, so yeah across all markets it's bounced back and it varies by market, but it's wide spread now..

Our next question comes from Bret Jordan of Jefferies..

When you first rolled out the 360 products, you sort of commented on what the incremental yield was.

Do you have any way to quantify what you're seeing maybe on a like-for-like car basis from the digital offerings, whether it be the engine recording of the digital 360 in the second quarter?.

Bret again it's hard to pick apart, there is the macro drivers as well is what we're doing internally. They're all part of the recipe for driving higher proceeds.

Is it difficult for us to isolate the impact of one versus another?.

But the trajectory of that Digital 360 products is as you'd expected, you're seeing higher yields you think on a like-for-like basis?.

We believe so, yes..

Another question on units, I guess you commented in the prior quarter about share gain versus loss.

Do you have any way to quantify what the loss or gain impact was in the second quarter?.

Yes I mean there is a lot and Bret, just to clarify, so your question quantify share gains per unit. We certainly in insurance and non-insurance right.

So we have to send to kind of what the share looks like across some portion of the insurance side that's much more difficult to quantify given I mean there is multiple aspects of non-insurance and multiple players that are involved in that right. So that's much more difficult to quantify..

And this concludes our question-and-answer session. I'd like to turn the conference back over to management for any closing remarks..

Well, thank you all for your time and your attention and your support of IAA. We look forward to updating you next quarter. Thank you..

[Audio gap] presentation. You may now disconnect your lines..